Summary

The Technology ETF was the No. 5 performer ranked by returns among the nine Select Sector SPDRs during the first half of 2014.

Additionally, the ETF outperformed the SPDR S&P 500 ETF by 1.32 percentage points over the same period.

Even so, the Technology ETF is a good candidate to underperform its parent proxy in the third quarter of this year.

The Technology exchange-traded fund (NYSEARCA:XLK), in the first half of this year, ranked No. 5 by returns among the Select Sector SPDRs that break the S&P 500 into nine chunks. On an adjusted daily share price basis, XLK climbed to $38.35 from $35.42, a hike of $2.93, or 8.27 percent. (It closed at $38.99 Monday.)

As a growth-and-value guy, I employ an assortment of valuation metrics, but one of my all-time favorites is the price/earnings-to-growth ratio (i.e., if it's good enough for Peter Lynch, then it's good enough for me). According to my interpretation of its P/E-G ratio, each of the top 10 holdings of XLK may be trading above its fair value (Figure 1).

Apple Inc. (NASDAQ:AAPL) appears to be the most reasonably priced of this lot, as it seems to be overvalued by just 33 percent.

Since the Federal Open Market Committee announced the launch of the U.S. Federal Reserve's current quantitative easing program in September 2012, equity valuation has been a major non-issue, both for the stock market in general and for the technology sector in particular. However, the FOMC has indicated it likely will kill this QE program entirely as soon as this October. Shortly before or shortly after this event, I believe considerations of valuation will again be on the minds of most market participants.

Combined with the comparative cyclicality of XLK and its attendant potential as an also-ran in the market game of musical chairs known as sector rotation, under the economic circumstances existing at present, the valuation of its components means the ETF might be hard-pressed to outperform the SPY in the second half the way it did in the first half.

Figure 2: XLK No. 5 Among Select Sector SPDR ETFs This Year

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Source: This J.J.'s Risky Business chart is based on analyses of adjusted daily share price data atYahoo Finance.

Certain fans of sector rotation theory (like me) believe the other two of the most cyclical Select Sector SPDRs -- the Materials ETF and the Industrial ETF (NYSEARCA:XLI) -- also will be hard-pressed to behave well on either absolute or relative bases at this point in the economic/market cycle.

Figure 3: XLK Monthly Change, 2014 Vs. 1999-2013 Mean

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Source: This J.J.'s Risky Business chart is based on analyses of adjusted monthly share price data atYahoo Finance.

XLK behaved much better in the first half of this year than it performed in the first halves of its initial 15 full years of existence, based on the means calculated by employing data associated with that historical period (Figure 3). The same data set shows the average year's weakest quarter was the third, with a negative return, and its strongest quarter was the fourth, with a positive return.

Figure 4: XLK Monthly Change, 2014 Vs. 1999-2013 Median

Click to enlarge

Source: This J.J.'s Risky Business chart is based on analyses of adjusted monthly share price data at Yahoo Finance.

XLK also behaved better in the first half of this year than it performed in the first halves of its initial 15 full years of existence, based on the medians calculated by using data associated with that historical period (Figure 4). The same data set shows the average year's weakest quarter was the third, with a small positive return, and its strongest quarter was the fourth, with a large positive return.

Disclaimer:The opinions expressed herein by the author do not constitute an investment recommendation, and they are unsuitable for employment in the making of investment decisions. The opinions expressed herein address only certain aspects of potential investment in any securities and cannot substitute for comprehensive investment analysis. The opinions expressed herein are based on an incomplete set of information, illustrative in nature, and limited in scope. In addition, the opinions expressed herein reflect the author's best judgment as of the date of publication, and they are subject to change without notice.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.